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What Happens to the CCP If China’s Economic Growth Falters?

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China Power | Politics | East Asia

What Happens to the CCP If China’s Economic Growth Falters?

Thanks to a rapid build-up in its domestic security capacity, the Party has the ability to substitute hard control for economic legitimacy.

What Happens to the CCP If China’s Economic Growth Falters?
Credit: Flickr/ Nathan Hughes Hamilton

Amid growing tensions around President Xi Jinping’s international assertiveness and the COVID-19 pandemic, important changes in two key policy areas – domestic security and consumption – are slowly taking China toward a crossroads for its “Chinese Dream.” While these policy areas are often analyzed separately, they actually constitute a nexus that underpins China’s political stability – a growth-based political legitimacy backed by an expanded security apparatus. As a result, the current policy changes hold the potential to amend the dynamics of political stability in China, with consequences for its political economy and foreign policy.

On consumption, the ”dual circulation” strategy was pitched by Xi in May 2020 and is likely to be part of the 2021 five-year plan, the main planning framework for the Chinese economy. The strategy aims to strike a better balance between the internal and external aspects of the Chinese economy, to the benefit of the former, partly through further policy support for domestic consumption. This is in line with the Chinese Communist Party (CCP)’s objective to turn China into an innovative and consumption-driven economy by 2049, as its investment- and export-led growth model exhausts itself.

On domestic security, Xi in the summer of 2020 launched a political campaign allegedly aimed at purging the security apparatus and ensuring its absolute loyalty, a campaign which will last until he renews his mandate in early 2022. This and the growing depth of the Social Credit System – a still fragmented AI-backed surveillance system that attributes scores to citizens based on their behavior – are key pieces in Xi’s domestic power consolidation, which is taking government control over society to a level unprecedented since Chairman Mao.

Given this upward trend in terms of domestic security capacities, what would be the consequences of a failed economic transition toward a more consumption-driven economy? Would such an event necessarily lead to political change, as often claimed?

The Grapes of Wrath

China’s growth has clearly rebalanced toward consumption. Between 2010 and 2019, private consumption as a proportion of GDP rose from 34.6 to 38.8 percent. However, China’s domestic consumption has taken a downward path over the past few years. Indeed, after stagnating at about 11 percent in 2016-2017, China’s private consumption growth rate declined to 9 percent in 2019. Structurally, China’s gross domestic saving rate remains at exceptionally high levels by global standards, and constrains consumption. After a period of decrease starting in 2010, China’s gross saving rate has been stabilizing at roughly 45 percent of GDP since 2016 – by comparison, the United States’ rate was about 17.7 percent in 2019. This downward trend can be partly explained by specific factors such as the growing weight of fast-increasing household debt or the recent crackdown on money lending businesses, which has curtailed households’ access to credit. These factors notwithstanding, the current trend fundamentally reflects long-standing structural drags on consumption that have gained salience during the pandemic: social security and inequality issues.

The pandemic has shed light on the weakness of China’s social safety net, which pushes the Chinese to save up a large share of their income. Indeed, despite 95 percent of its population being covered by various health care plans, China’s average out-of-pocket share of health expenditure still amounted to 35.9 percent of total health spending in 2018, as opposed to 10.6 percent in the U.S., with sizable gaps between urban and rural plans, which further disadvantage poorer rural dwellers. Likewise, in the midst of the pandemic, only 2.3 million people were eligible for unemployment benefits, whose level is set under the country’s very low minimum wage. The rest of the estimated 78 million unemployed people were forced to survive on their own means.

In the absence of a strong safety net, the pandemic has strengthened another major obstacle to consumption: economic inequality. The situation of the poorer and less protected households deteriorated much more than that of the richer households. Inequalities have been historically cemented by the hukou system, a household registry that ties Chinese citizens’ access to public services and benefits to their birthplace. The system created a vast pool of “second-class” citizens who have migrated to cities for low-paid employment but are entitled to none of the rights enjoyed by urban dwellers. In response, the government has loosened the rules of the system over the past few years. However, in reality, the most attractive cities leverage the new rules to attract wealthy and educated migrants, thus excluding the bulk of rural dwellers and leaving the problem unsolved.

It is clear that China’s transition toward a consumption-driven economy must involve the solving of long-standing issues. However, from China’s perspective, the difficulty is that these issues are embedded in a network of intertwined and politically sensitive matters, which complicates any solution. For instance, the ending of the hukou system would further pressure Beijing to establish an extremely expensive nationwide social safety net, given the country’s size and fast-aging population. Funding such an endeavor would require China to reshuffle its tax system and curb the downward trend of its real fiscal revenue. This would mean increasing the contribution of the income tax to the country’s revenues – 9 percent of total fiscal revenues in 2018 – which mostly rely on consumption and corporate taxes. Such a move is obviously highly politically sensitive.

Beijing could also reform its financial system to complement its social safety net and enhance support to the under-financed private firms that are the main source of productivity and wage growth in China, but received only 11 percent of new loans in 2016. However, this is equally difficult. Such a reform would entail a complete revamp of the state banking system, as well as solving the long-standing issue of inefficient state-owned enterprises, which would require China to dramatically reform its methods of economic governance.

China 2049

Considering these structural impediments to imperative reforms, the success of China’s economic transition is far from assured – and failure would lead the country into a period of economic stagnation like that of Japan. However, the case of Egypt shows that authoritarian regimes may survive such difficulties, as long as they have the right security apparatus. After President Jamal Abdel Nasser’s death in 1970, successive Egyptian governments gradually insulated themselves from an impoverishing population and maintained political stability via the continued increase of the country’s domestic security capacity. Egyptians only managed to overcome this insulation and have a say in politics during the 2011 Tahrir Square revolution, after four decades of steady social deterioration.

In this light, it is reasonable to argue that the failure of China’s economic transition could lead to new dynamics in terms of political stability, but not to regime change. In other words, the CCP would rather rely on domestic security than growth to sustain its power. Under such circumstances, the CCP would certainly strengthen its late trend toward increased statism. Economic governance could become more politicized, as  strategic competition with the U.S. is unlikely to disappear, with more decisions being made on national security grounds. Beijing’s recent steps toward the decoupling of the Chinese and American economies may be an early symptom of this longer-term securitization trend. That would certainly jeopardize the Chinese market’s process of opening, to the detriment of foreign economies.

Lastly, Beijing’s less outgoing international stance, amid its broader diplomatic difficulties, may inform us of its future foreign policy. Indeed, the Belt and Road Initiative (BRI), Xi’s flagship policy, seems to be slowly running out of steam. The number of new Chinese overseas construction contracts, an imperfect proxy for the BRI’s infrastructure activities, sharply decreased in 2018, after years of fast-paced growth. This reflects Xi’s changing global vision, which has been introduced through a number of speeches. For instance, he emphasized China’s need to refocus on its domestic development in a series of recent speeches on the domestic aspect of “dual circulation” and he called for more tech- and innovation-oriented interactions with the global economy in a speech in Shenzhen in October.

In sum, Beijing is likely to become more inward-looking and engage with the world more strategically in key areas, while its foreign policy could further focus on its “core interests,” as suggested by the growing tensions in the Taiwan Strait. A failed economic transition could strengthen these trends, as Beijing’s sense of insecurity would grow. Nevertheless, China has not reached its “China Dream” crossroad just yet. The recent actions toward propping up its post-pandemic consumption could contribute to pushing Beijing to undertake the reforms necessary to reach its 2049 goal.

Alexis Leggeri is a Ph.D. candidate researching China’s foreign policy and EU-China relations in the Department of Asian and International Studies at the City University of Hong Kong.